Evolution of Mutual Funds Market in India
The economic development of a country largely influenced either by credit based financing through financial institutions or by financial securities through capital market. The financing through capital market proves to be rapid economic development due to its instantaneous information processing mechanism of financial sector while real sector takes some time to process available information. In this sense, the economic development through stock market precedes the development through real sector. Further, the ensuring efficient stock market may result in providing strong support for economic development. More specifically, if the small savings may be properly channelised into stock market activities, then larger inflow of capital is possible besides ensuring efficient stock market operations.
Mutual Funds in recent past as a channel of resource mobilization has gained immense importance in general and in India in particular. Generally, an investor prefers to invest in units of mutual funds due to its efficient diversification. In other words, the diversification of portfolio becomes difficult for the investor either due to in-sufficient fund or due to the absence of expert opinion. Hence, investor attempts to find-out the best possible way of earning on his investment by evaluation various profitable opportunities of multiple mutual fund opportunities available to him. The selection of one mutual fund in preference to another may be largely induced by investor’s risk-return framework. For instance, if investor prefers to earn higher rate of return, then he naturally selects his investment in growth oriented mutual fund. Further, the examination of mutual fund performance calls for close scrutiny of return on market index. If the mutual fund performs better than return on market index, then investors, expecting higher return, may attempt to invest in that fund. In essence, if the mutual fund yields higher return than market return, it can be said that it has outperformed the market index.
If the mutual fund is performing purely on the benefits of its component securities, then it is possible to earn higher return as compared to market return. Otherwise, the return on mutual fund is influenced by the return on market index; it means that return variation of market index may largely induce the return on mutual fund either in positive or negative direction depending upon its associated correlation. More specifically, if the return mutual fund strongly depends upon the return on market index, then there is possibility of integration between them. In this case, there is uni-directional influence from market index to mutual fund. If the operation of mutual fund is so strong, it may also give a shock to market index, suggesting a reverse causation from mutual fund to stock market index. It is not necessary that price influence from stock index to mutual fund excludes the reverse influence from mutual fund to stock market index. In other words, there is possibility of strong co-integration between them, asserting a bi-directional influence between them. Such integration may give special information about the return on mutual fund with help of return on market index.
The component securities in that portfolio are well diversified; it is possible to get higher return with lesser risk. The diversification does not mean that component securities in portfolio must match with securities in market index. It is quite possible that proxy portfolio may be constructed that resembles the market index’s risk-return. Otherwise, the securities traded in the stock market may ensure co-integration with market index. In such case, it is quite possible to state the return on mutual fund may be predicted with help of market index. Further any such existence may also support the superior stock selection of fund manager.
Evolution of Mutual Funds Market in India
The mutual fund industry in India started in 1963 with the formation of Unit Trust of India, at the initiative of the Government of India and Reserve Bank of India. The history of mutual funds in India can be broadly divided into four distinct phases.
- First Phase – 1964-87: Unit Trust of India (UTI) was established on 1963 by an Act of Parliament. It was set up by the Reserve Bank of India and functioned under the Regulatory and administrative control of the Reserve Bank of India. In 1978 UTI was de-linked from the RBI and the Industrial Development Bank of India (IDBI) took over the regulatory and administrative control in place of RBI. The first scheme launched by UTI was Unit Scheme 1964. At the end of 1988 UTI had Rs.6, 700 crores of assets under management.
- Second Phase – 1987-1993 (Entry of Public Sector Funds) : 1987 marked the entry of non- UTI, public sector mutual funds set up by public sector banks and Life Insurance Corporation of India (LIC) and General Insurance Corporation of India (GIC). SBI Mutual Fund was the first non- UTI Mutual Fund established in June 1987 followed by Canbank Mutual Fund (Dec 87), Punjab National Bank Mutual Fund (Aug 89), Indian Bank Mutual Fund (Nov 89), Bank of India (Jun 90), Bank of Baroda Mutual Fund (Oct 92). LIC established its mutual fund in June 1989 while GIC had set up its mutual fund in December 1990. At the end of 1993, the mutual fund industry had assets under management of Rs.47, 004 crores.
- Third Phase – 1993-2003 (Entry of Private Sector Funds) : With the entry of private sector funds in 1993, a new era started in the Indian mutual fund industry, giving the Indian investors a wider choice of fund families. Also, 1993 was the year in which the first Mutual Fund Regulations came into being, under which all mutual funds, except UTI were to be registered and governed. The erstwhile Kothari Pioneer (now merged with Franklin Templeton) was the first private sector mutual fund registered in July 1993. The 1993 SEBI (Mutual Fund) Regulations were substituted by a more comprehensive and revised Mutual Fund Regulations in 1996. The industry now functions under the SEBI (Mutual Fund) Regulations 1996. The number of mutual fund houses went on increasing, with many foreign mutual funds setting up funds in India and also the industry has witnessed several mergers and acquisitions. As at the end of January 2003, there were 33 mutual funds with total assets of Rs. 1, 21,805 crores. The Unit Trust of India with Rs.44, 541 crores of assets under management was way ahead of other mutual funds.
- Fourth Phase – since February 2003 : In February 2003, following the repeal of the Unit Trust of India Act 1963 UTI was bifurcated into two separate entities. One is the Specified Undertaking of the Unit Trust of India with assets under management of Rs.29, 835 crores as at the end of January 2003, representing broadly, the assets of US 64 scheme, assured return and certain other schemes. The Specified Undertaking of Unit Trust of India, functioning under an administrator and under the rules framed by Government of India and does not come under the purview of the Mutual Fund Regulations.
Problems of Mutual Funds in India
An institutional setup of financial intermediaries is required to mobilize the savings of the society and investing rationally for economic development. Unit Trust of India was set-up by the Central Govt. under the UTI Act, 1963 with an objective of mobilizing savings of middle and lower income groups and providing them opportunities to acquire property in the form of shares. The growth of UTI took place during the period when the economy was under a control regime and securities markets were irrelevant to industrial growth as the financial intuitions were the major purveyors of long-term finance. The economic liberalization and globalization created a fervent environment in our country and several small investors participated in the equity of the corporate sector. The investors who subscribed to equity shares issued at high premia, after abolition of the office of the Controller of the Capital Issues, have lost their investments as the market prices of such shares are prevailing at very low rates or not quoted at all. SEBI has raised the amount of minimum subscription in public issues and shifted to compulsory trading of securities in dematerialized form through depositories. The private sector mutual funds have benefited the investors by providing them more options and better services. There are 56 mutual funds operating with a wide branch network in our country. The present state of mutual funds, their performance, profitability and decline of NAVs below issue prices have been causing concern to the investors.
The UTI Act governs UTI and the SEBI regulations are not applicable to UTI. A set of common rules and regulations are required for the same business to provide level playing field. In the absence of a single comprehensive legislation for mutual funds, there are several Acts applicable to the business of mutual funds. UTI has followed ‘trust approach’ while SEBI-regulated mutual funds have combined both trust and corporate approaches. The Indian Trusts Act, 1882 does not contain adequate provisions to deal with a trust where there is a large-scale mobilization of public funds/ savings for expert fund management to maximize the returns to the investors. The management of funds has been entrusted to the assets management companies incorporated under the Companies Act,1956 to separate management from ownership, control and supervision. There are several parties to mutual funds such as sponsor, the trustees, the AMC, the custodians and the investors as beneficiaries. The rights, duties and obligations of all the parties need to be focused under a specific statute or Act rather than enforcing partly under SEBI Act, The Companies Act and the Indian Trusts Act. All the problems of mutual fund industry have been classified in the following categories:
Problems related to structure: The problems related to structure under SEBI (Mutual Funds) Regulations,1996 are pertaining to regulations 2 (q), 7, 16 (5) , 24 (3) , 21 (b) , 24 (2) , 32, 33,43, & 44. AMFI has taken a lead & made representations to the SEBI & the Central Govt. to amend the regulations. The problems related to the Indian Trusts Act ,1882 are pertaining to individual/collective liability. The post –SEBI mutual funds have opted for trustee company structure. The liability of the trustees is more onerous under the board of trustees structure as compared to the trustee company structure. The Indian Trusts Act does not permit perpetual succession. The companies Act, 1956 permits perpetual succession but it can’t protect the interest of the investors due to the privilege of limited liability. The Govt. of India should consider enacting a separate comprehensive Mutual Funds Act and clearly spell out rights, duties and obligations of the various constituents of mutual fund to provide a uniform regulatory framework and to create a level playing field for all the mutual funds in the industry including UTI.
Problems related to the investors: The success of a mutual fund depends upon the confidence of the investors. UTI has established a marketing network of branches, chief representatives, collection centers and franchise offices through out the country. The marketing network of UTI is its unique strength as compared to other mutual funds. UTI could mobilize Rs.75159 Cr. of investible funds through its 87 schemes due to its well established marketing network. All other mutual funds could not establish such a marketing network and can’t compete with UTI in mobilizing public savings from rural and semi-urban areas. All the problems related to the investors are, lack of awareness and poor after sales service to the investors. The investors believed, so far , that the mutual funds promoted by UTI, LIC, and nationalized banks are guaranteed by the Central Govt. The majority of the new investors don’t understand the concept, operations and advantages of investment in mutual funds before investing . The researcher had undertaken surveys of individual investors and members of Ahmedabad Stock Exchange to analyse the awareness of investors about the mutual fund schemes .It was observed that small businessmen, farmers and persons belonging to rural and semi-urban areas in low income group had no awareness about the mutual funds. The queries received from the investors are promptly attended by all the private sector mutual funds. There are delays in attending queries by the transfer agents in case of UTI due to large number of queries received by them.
Problems related to working: The inventible funds of the mutual funds increase when sales are more than the redemptions and decrease when the redemptions are more than sales creating the problems of maintaining liquidity The investors prefer to invest in equity funds during boom period and shift their investments to debt funds during the recession period. The most profitable and high income & appreciation potential stocks during the boom period or at the time of investing funds in such stocks may become illiquid over a period of time .The investors can’t take decisions of investment due to unavailability of track records of working. HDFC and Standard Chartered Mutual Funds started their operations in 2000, all other mutual funds except UTI have the track record of 3 to 5 years. Unless the track records of working of mutual funds is available covering the several stock market booms and crashes, the investors can’t judge which schemes or mutual funds are better alternatives for investments. There are several problems related to UTI such as non-disclosure of portfolio, inter scheme transfer of funds, lack of professional fund managers, sale & repurchase of units of US-64 at prices not related to its NAV, bureaucratic working, etc. AMFI has constituted committees on valuation, best practices and credit policy and working groups on valuation of gilt-securities, standardization of disclosure, pensions, etc. to ensure uniform working and disclosure practices.
Problems related to performance: The investor prefers safety of the principal amount, regular returns, long-term growth, income tax benefits, etc. The mutual fund schemes have been designed based on the preferences of the investors, changes in stock/capital market, returns on various instruments and changing profile of the investors. The schemes are framed and conceptualized by the top management of the mutual funds and marketed by their branches and through the agents. The agents and the sales executives of the mutual funds assure higher returns to the investors and paint a rosy picture about the mutual funds while marketing schemes. The mutual funds in our country have been quite wrongly promoted as an alternative to equity investing and created very high expectations in the minds of the investors. The ignorance of the investors about mutual funds coupled with aggressive selling by promising higher returns to the investors have resulted into loss of investors’ confidence due to inability to provide higher returns. All mutual funds set a higher target for mobilization of savings from the investor by launching new schemes and expanding investor base. The agents or distributor of mutual funds are more governed by commissions and incentives they get for selling the schemes and not by the requirements of the investors and quality of the products. They share commissions with the investors and don’t explain the risk factors to them.
The investors who invest in growth or equity schemes consider it as an alternative to stock market investing and the investors who invest in debt schemes expect higher returns on their investments than returns on nationalized banks’ fixed deposits. The investors expect higher returns and get dissatisfied when they don’t receive the expected returns. The NAV of the mutual fund scheme gets discounted on debiting the front-ended load of issue expenses after closure, further discounted on listing and continue to decline on trading due to poor demand for such units due to the poor sentiments of the investors. The mutual funds are bound to invest the funds as per their investment objectives of each scheme published in the offer document. After the issue is over, it becomes the mandate and the mutual funds have no choice to invest the funds in other securities, which can provide higher returns.
